Scottish pension funds should be used as a force for good as well as delivering high quality pensions for our members.

I was giving evidence to the Scottish Parliament Local Government Committee this morning on the use of pension funds for infrastructure investment. The Scottish Local Government Pension Scheme has some £26bn to invest. Half of this is invested in overseas equities, investment that comes with significant and often hidden management costs that are poorly understood.

In 2013 I wrote a report With assistance from the SFHA on the use of pension funds to build houses and there has been some take up of the idea in Scotland and the rest of the UK. I argued today that the same principle could apply to other forms of infrastructure investment including transport and energy generation. The best investments are those that have a low risk revenue stream.

I was asked what are the barriers to greater infrastructure investment?

The first is a small 'c' conservatism in pension funds generally. Managers prefer to invest in what they understand and don't like change. This is closely linked to a lack of expertise. They understand equities and commercial property, they don't have much experience in housing or infrastructure generally. If there is a will, there is a simple solution - recruit the in-house expertise.

Another barrier is the claimed impact of fiduciary duty. Again there is a conservative interpretation of the legal position that is holding back infrastructure investment and results in pension funds investing in wholly inappropriate and unethical investments for a public body. Our funds invest in tobacco, arms and fossil fuel companies. The LGA recently commissioned counsel opinion on this issue and this quote sums up the position well:

"the precise choice of investment may be influenced by wider social, ethical or environmental considerations, so long as that does not risk material financial detriment to the fund."

It is perfectly possible to invest in infrastructure and ethical investment within this framework and pension funds across the UK are doing this better than many Scottish local government funds. The risks involved in some of these unethical investments are not sufficiently well understood. Funds are also weak on shareholder engagement and they could use that leverage to promote trade union, government and council policies more effectively.

Another barrier is the investment regulations. I argued today that they are over prescriptive, specifying limits to specific forms of investment. A better approach might be to have a broad duty and a code of practice.

That leaves how our funds are structured. We have eleven funds in Scotland and that leads to duplication of cost and little sharing of expertise. Bigger funds are generally more effective in securing better returns on investment and would enable funds to develop greater in-house expertise. It doesn't necessarily have to mean merger, but we can and should collaborate much more.

This month sees the start of new governance arrangements for the Scottish LGPS. The new Scheme Advisory Board meets for the first time tomorrow and these issues are in the draft work plan. We also have representatives appointed to the new Pension Boards in each of the eleven funds. It will take time, but this should lead to much greater transparency and challenge to vested interests.

Pension funds are a hugely important and under used resourced in Scotland. The new governance arrangements are an opportunity to move in a new direction. But we will need to work hard to break down entrenched positions. Today's parliamentary scrutiny is helpful in moving this along

Responsible investment is a nice title and a growing industry, but how much difference does it really make to the way our pension funds are invested?

Courtesy of the excellent Nordic Horizons programme I was in Edinburgh City Chambers last night to listen to Zaiga Strautmane who heads up responsible investment for the Danish pension fund Unipension. They joined three corporate pension funds together covering a range of professions to create a stronger fund with 100k members an assets of £10.5bn. 

It is important to emphasise that 'responsible investment' is not the same as 'ethical investment'.

After a particular investment row they developed a responsible investment code. There are no statutes in Denmark on this issue other than a requirement on large firms to produce social responsibility reports and some guidelines on responsible investments, which usually followed.

They started with a member survey, repeated every three years. Interestingly, the first question was 'How much money are you prepared to give up?'. The answer was £50 to £100 per month. I would be sceptical about the premise of the question, but the commitment of these Danish workers is impressive.

After identifying the views of members they scanned the sort of world issues that concerned them e.g. Bangladesh clothing factories, child labour, corruption etc. They also looked at good socially responsible companies in Denmark as a benchmark, but discovered not all were as good as they thought.

They started with the UN Principles for Responsible Investment (PRI). Then developed an active owner, vote and engage strategy. They cooperate with other investors to give scale and clout and are transparent about their approach with regular reports on their web site.

Their list of issues comes from the UN Global Compact including human rights, labour rights, environment and anti corruption. Then they added controversial weapons, sanctions, and good company governance. They have a legalistic, not political approach, following international conventions on these issues. For example, they have not excluded firms involved in Israeli settlements because they regard UN resolutions declaring them illegal, political not legal decisions.

The plan covers all asset classes - equities, properties and bonds. They focus on engagement before exclusion, although some 30 companies have been excluded. This doesn't include fossil fuel divestment despite members wanting them to exclude. She argued that there are no financial reasons to exclude and even if they did, other shareholders would take up the slack. They don't have to follow AGM decisions and have a similar concept to our fiduciary duty.

To give a Scottish contrast, Marianne Harper Gow from Baillie Gifford set out their approach to responsible investment. They focus on company culture and governance. She illustrated this by describing the BP Gulf of Mexico oil spill as an environmental disaster, but the cause was governance failure. Pension funds are long term investors and BP's cost cutting and outsourcing should have been a warning sign.

They do responsible investment through research, proxy voting, engagement and reporting. Building long term relationships with companies rather than exclusion. 

I am usually inspired by the different approaches taken by the speakers in the Nordic Horizons programme. Sadly, not this time. The Danish approach taken by this pension fund does have some improvements over practice in Scotland. A long term investment approach, greater transparency and in practice they appear to have carried out responsible investment, including avoiding hedge funds.

The Baillie Gifford approach was even less impressive. On their long term (10 yrs) list of companies was Amazon. That company's aggressive tax avoidance and poor employment standards, clearly passed them by!

My concern is that change is at best incremental in this approach. They don't appear to be listening to members and hide behind legal and political classifications. it seems largely cosmetic. Phrases like it will 'stay on the agenda', doesn't inspire confidence that action is on the cards. The track record isn't very good either. For example, for all the engagement over board remuneration, pay ratios continue to rise.

I'm afraid I was left with the impression that responsible investment approaches both here and in Denmark leave much to be desired. It will need pension fund members and civil society to take a more aggressive stance on this issue. We certainly can't rely on the fund managers.

Dave Watson